US economy to Federal Reserve: Take it easy

The release of the May Employment Report was disappointing for those expecting our robust employment narrative to remain intact, leading investors to question the predictability for the timeline of further Fed tightening in coming quarters. Results for the month (+138K) were well short of consensus (+185K). To make matters even less encouraging for those stalwarts, the previous two months’ reports (March and April) were revised lower by a net of -66K.

Trump administration officials, in an effort to provide a more “glass half-full” story line, have gleefully pointed out that the “official” unemployment rate dropped to 4.3% in May, a 16-year low. Here’s the problem. Though the “official” unemployment rate has indeed dropped to 4.3%, the employment gains for May were not only well short of consensus, they represented a significant drop from April’s initial reading, in addition to which both March and April were revised lower.

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There were additional concerns within the report for investors. The Labor Force Participation Rate slipped to 62.7% from April’s 62.9%. Private payrolls missed, coming in at +147K versus consensus calling for +173K. Manufacturing jobs actually decreased by -1K versus expectations of a gain of +8k. The Average Workweek held steady at 34.4 hours. Average Hourly Earnings month-over-month and year-over-year hit expectations at 0.2% and 2.5%, respectively.

This was not a great Employment Report. Was it weak enough to alter the expectations for the Fed to move on rates in June? To a degree, yes. Will it actually alter the probability of the Fed raising? I don’t think so. According to the widely followed CME FedWatch Tool, which predicts the probability that moves on rates at a given FOMC meeting, the Current Target Rate Probabilities for a June 14 rate hike stand at 91.2. If we do in fact get a 25 bps (0.25%) hike in June, and if monthly Employment Reports continue to underwhelm moving forward, any further FOMC rate hikes in 2017 will be looked at skeptically.

In summary, Friday’s report will not likely impact the Fed’s expected hike in June, but it may well lay the groundwork for less tightening in the second half of 2017.